RFP MONEY MAKEOVER: The Billion Peso Couple
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The Billion Peso Couple
The high-earning, high-living couple does not have problems with accumulating wealth. Their problem is how to protect it
By Hazel Ann Acuña
Ernesto Gotanchan, 58, is a businessman and owner of many commercial and residential real estate properties while his wife Elizabeth, 40, works in an offshore bank as head of the corporate loans department. Ernesto has five children, the eldest—his 24 years old daughter—with his first wife, who passed away, and four sons with Elizabeth, with ages ranging from four to 13.
The couple has gross earnings of P5,000,000 a month, mostly from rentals of the commercial and residential properties of Ernesto. His total collections every month is a minimum of P4,500,000 from his properties in Makati, Mandaluyong, Quezon City, Laguna, Cavite, Tacloban and Cebu. Elizabeth earns a monthly salary of P500,000.
The Gotanchan family is living the good life, with a residence in Forbes Park in Makati, membership in the Yacht Club, and an almost unlimited budget for cars, clothes, and casinos.
They have a net worth of more than half a billion (see Table 1: Net Worth Statement).
Table 1: Net Worth Statement
|ASSETS (in Php)||Ernesto||Elizabeth|
|Cash & bank accounts||10,000,000||5,000,000|
|Bonds, term deposits, and investment certificates||30,000,000||10,000,000|
|Total Cash & Liquid Assets||40,500,000||15,100,000|
|Total Marketable Assets||6,000,000||1,500,000|
|Cash value of life insurance||10,000,000||5,000,000|
|Real estate investments (prime location only)||300,000,000||1,000,000|
|Total Long-Term Assets||320,000,000||9,000,000|
|Other (offshore, etc.) converted to peso||50,000,000||0|
|Household furnishings & equipment||5,000,000||1,000,000|
|Collectibles (art, stamps, coins, jewelry, etc.)||20,000,000||5,000,000|
|Total Personal Assets||155,100,000||11,010,000|
|Charge accounts & credit cards||500,000||500,000|
|Line of credit/overdraft||5,000,000||1,000,000|
|Loans (car loan, etc.)||2,000,000||800,000|
|Taxes (Income tax or property tax)||3,000,000||1,000,000|
|Total Short-Term Debt||11,500,000||3,000,000|
|Other (charitable pledges, family obligations etc.)||5,000,000||1,000,000|
|Other mortgage loans||10,000,000||5,000,000|
|Total Long-Term Debt||15,000,000||6,000,000|
Ernest’s income-generating real estate holdings include commercial buildings, apartments, condominium units, house and lots, warehouses, boarding houses, and vacation houses, constituting the bulk of their assets. Nevertheless, the couple own deposits, stocks, offshore investments, etc., managed by top private banks, which provide diversification across asset classes.
However, their non-real estate assets show that their risk tolerance is conservative. The couple mentioned that the types of investments they are comfortable with are low-risk investments because of their upbringing and fear of getting into scams.
They don’t have a problem with debt, since their debt-income ratio is manageable: 18.68 for Ernesto and 3.06 for Elizabeth.
Their idle funds are intended for their retirement. Ernesto wants to retire when he turns 65, preferably in Europe to enjoy the museums and art galleries in his old age. He also wants to transfer and donate a portion of his investments, particularly his properties that generate rental collections, to his only daughter who will be 31 by then. Elizabeth on the other hand wants to retire at 60 and spend her golden years donating to foundations and charities.
The high life
Ernesto’s eldest daughter, who lives on her own, gets an allowance of at least P50,000 a month and capital for her three businesses. His first wife died from heart disease. His younger children study in exclusive schools and are expected to take advanced degrees in London.
Indeed, they are living a charmed life. With their current monthly income of P3,400,000 net of taxes, they spend as much as P2,860,000, for an expense-income ratio of 0.90 (meaning they only save 10% of their income). While it’s a positive cash flow of P540,000, they obviously are living in the here and now (see Table 2: Cash Flow Analysis).
The rental income is substantial, but there’s always a risk of collection problems and bad debts, which is in fact something that is already happening at some their properties. This can affect their cash flow, and may even force them to dip into their savings.
One way to mitigate this risk is to set up an emergency fund equivalent to at least two months of expenses, which is around P68,640,000. The other thing they need to do is decrease their discretionary expenses, which is already 45% of their income after tax. Specifically, they should cut down on their casino spending and gift giving, which comprise 70% of the total discretionary expenses. Doing these will not affect their lifestyle at all and should bring down their discretionary expenses by 20%.
TABLE 2: CASH FLOW ANALYSIS
|Monthly Income||Annual Income|
|INCOME (in Php)|
|Average Rental Income||4,500,000||54,000,000|
|Bonuses, $10,000 @ 50||500,000|
|Less: Taxes @ 32%||1,600,000||19,360,000|
|Total Net Income||41,140,000|
|EXPENSES (in Php)|
|Net Cash Flow||540,000||3,940,000|
|Total Monthly Income||3,400,000|
|Total Monthly Expenses||2,860,000|
|Net Cash Flow||540,000|
|Annual Expense-Income Ratio||0.90|
If there’s a will
Cutting down on discretionary expenses and boosting their investments should generate a higher net cash flow and help achieve Ernesto’s goal to have a billion peso net worth when they retire. What they haven’t planned enough for what will happen to their wealth when they’re gone.
The couple has no will. They plan to establish one right away with the help of their lawyers. Ernesto wants to copy what her mother did, which was to donate her properties to him while she was still alive. Because of that she was able to guide and help manage the properties well.
Ernesto has a pre-nuptial agreement with Elizabeth, in order to protect the interest of his only daughter. He also mentioned that his Cebu and Tacloban properties are assets of her first wife and must be given to his daughter. Aside from that he wants 50% of all his properties in Luzon to be given to his daughter. The other 50% will be divided to Elizabeth and their four sons. Two thirds of his other investments will also go to his daughter and only 25% will be given to Elizabeth and his sons.
To prepare their estate plan, the various tasks were assigned to their accountant, lawyer, and financial advisor, who will coordinate with the property appraisals, make the computations, and file the required documents.
There are three options available to the couple: pass on their properties upon death, in which case they pay a hefty estate tax; donate their properties while they’re living, which is Ernesto’s preferred route; or transfer their properties to a family corporation.
The first step is to compute their net estate (see Table 3: Net Taxable Estate) and resulting estate tax. Assuming that they use up all their savings and investments for retirement, that leaves only their real estate properties worth P361,000,000 that their children can inherit. The estate tax due after allowable deductions amounts to P69,665,000.
TABLE 3: NET TAXABLE ESTATE
Other Exclusive Properties
Total Conjugal Deductions
Less: ½ Share of the Surviving Spouse
Net Conjugal Estate
( 9,500,000 / 2 )
Net Taxable Estate
ESTATE TAX DUE
The second option is to transfer their properties via donation, since the tax rates are lower (15% versus 20% for estate tax). They call also transfer over a number of years so that they can relinquish legal ownership gradually. Using a 10-year schedule of donations, based on P378,000,000 worth of properties, the couple will be able to save P17,925,000 in taxes, since they will pay a lower P51,740,000 in donor’s tax.
TABLE 4: DONORS TAX COMPUTATION
|Year||Amount Donated||Rate||Donor’s Tax|
|Total Donor’s Tax||51,740,000|
The third option is through incorporation of assets. If Ernesto converts all his real estate properties worth P378,000,000 into shares of stocks with par value of P500,000, he will receive 756 shares. Transferring his assets into a corporation is tax-free at the time of transfer. However, it only delays the payment of taxes since his resulting shares of stocks will still have to be part of his net taxable estate.
So the best strategy is through donation since it will save the couple P17,925,000 in taxes. Since the donation will be spread over 10 years, they will be able to schedule the tax payments for minimal impact to their cash flow.